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Currency crisis, monetary policy, and corporate balance sheet vulnerabilities

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Author Info
Eijffinger, Sylvester C.W.
Goderis, Benedikt (Tilburg University, Center for Economic Research)

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Abstract

This paper studies how the exposure of a country's corporate sector to interest rate and exchange rate changes affects the probability of a currency crisis. To analyze this question, we present a model that defines currency crisis as situations in which the costs of maintaining a fixed exchange rate exceed the costs of abandonment. The results show that a higher exposure to interest rate changes increaes the probability of crisis through an increased need for output loss compensation and an increased efficacy of monetary policy in stimulating output. A higher exposure to exchange rate changes also increases the need for output loss compensation. However, it lowers the efficacy of monetary policy in stimulating output through the adverse balance sheet effects of exchange rate depreciation. As a result, its effects on the probability of crisis is ambiguous.

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Publisher Info
Paper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 113.

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Date of creation: 2005
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Handle: RePEc:dgr:kubcen:2005113

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Related research
Keywords: short term debt

Find related papers by JEL classification:
E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
F34 - International Economics - - International Finance - - - International Lending and Debt Problems

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  1. Eijffinger, S.C.W. & Goderis, B.V.G., 2007. "The Effect of Monetary Policy on Exchange Rates During Currency Crises: The Role of Debt, Institutions and Financial Openness," Discussion Paper 2007-18, Tilburg University, Center for Economic Research. [Downloadable!]
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